Making College More Affordable with 529 Plans
When you were younger, you may have had aspirations to be a pop star, a professional athlete, maybe even a superhero. Most of us adjusted our expectations as we grew older, ultimately pursuing careers in areas such as education, law, medicine or financial services instead. Your child is no different, and a college education may be an important part of making their goals a reality. Unfortunately, the affordability of a college education is seemingly out of reach for many Americans: in-state tuition and fees at public universities have increased by a staggering 237 percent over the course of the past 20 years. Choosing an appropriate savings plan may make a big difference.
What is a 529 plan?
A 529 plan is an investment account that allows for tax-deferred growth to help pay for future college costs such as tuition, textbooks, and room and board as well as other educational expenses. One of the many benefits of the 529 plan is that the earnings are not subject to federal income tax and, in most cases, state income tax if used for qualified educational expenses. In addition to the federal tax savings, currently more than 30 states offer a full or partial tax deduction or credit on state tax returns for 529 contributions. Another notable provision of 529 plans is that there are no income limits, or age limits, so participation in a plan is available to almost everyone interested in saving money for college.
When opening a 529 plan, the account owner is the person who controls the account for the benefit of a designated beneficiary. Beneficiaries may be a relative or friend, or one can even name him or herself as the beneficiary. While an account holder may wish to seek professional guidance or consult her state’s tax rules regarding beneficiary designations, it is possible to change beneficiaries on the account with no tax consequences. For example, in the case where one child gets a full scholarship or decides not to attend college, the owner can change the beneficiary so that a different family member can use the funds towards their college education, without triggering a taxable event.
There are two types of 529 Plans: a prepaid tuition plan or a college savings plan. Each provides different saving options with the same overarching goal of planning for future education expenses.
Prepaid Tuition vs. College Savings Plan
The prepaid tuition plan option is usually sponsored by state governments and allows you to purchase units or credits at participating colleges and universities for future tuition and mandatory fees (usually excluding future room and board) at current prices. Unfortunately, the plan may pay a lesser return on the original investment if the beneficiary does not ultimately attend a participating college or university. The prepaid tuition plan is helpful in cases where the prospective student knows where they would like to attend college – usually a public, in-state school – so they can build units/credits towards that specific college.
The college savings plan allows you to open an investment account to save for a wide range of education expenses, including room and board. Also, beginning in 2018, you may use up to $10,000 in annual tax-free 529 account withdrawals for pre-college students such as private high school and elementary costs. The plan consists of various investment portfolio options.
Typical options include various mutual fund and exchange-traded fund (ETF) portfolios as well as a principal-protected bank product. These portfolios may also include static fund portfolios and age-based portfolios. In contrast to a static portfolio, an age-based portfolio works on a glide path towards more conservative investments as the beneficiary ages closer to college. Keep in mind that while the account holder can make changes to the investment options in the plan, they are only permitted to change the investment option twice per year, or when there has been a change in beneficiary. Also, you may only withdraw money that you invest in a college savings plan for qualified education expenses, otherwise you may be subject to taxes and other penalties.
Similar to other investments, there are expenses associated with both plans that may include an enrollment fee, and investment expenses, as well as continuing administration and management fees. Before choosing a particular plan, we suggest that investors carefully review the plan so they fully understand all potential fees and expenses.
There are many reasons why a 529 savings plan may be beneficial to you and your children, chief among them being that by saving for college today, your children may need to borrow less in the future to cover their college expenses. Typically, most students don’t begin to consider their debt until after they graduate, but unfortunately, a large amount of college debt may leave them financially unprepared for future endeavors such as purchasing a home or renting an apartment.
Contact us to learn more about 529 plans, or to determine if a 529 plan would fit into your family’s overall financial plan.